A recipe for dealing with rand stress
Of all the sources of financial stress, rand volatility is surely topmost for South African investors. As a nation, we obsess about the rand and its trajectory. Nancy Hossack, analyst at Foord Asset Management describes a simple strategy for investors to manage currency stress.
Just north of South Africa’s border is a clear example of what can happen to the savings of citizens when authorities grossly mismanage the economy. The Zimbabwean dollar was introduced in 1980 but became worthless and was abandoned in 2009 after economic mismanagement triggered sustained hyperinflation.
In developed economies, the actions of governments and central banks are inching closer to emulating the principles of Modern Monetary Theory (MMT). MMT proposes that authorities pay for goods and services by printing money instead of borrowing money. It suggests taming ensuing inflation by using higher taxes to reduce money supply. This seems to be a dangerous economic experiment to me even if executed perfectly.
You should therefore manage your currency risks no matter where you live. Managing investment risk is what we do at Foord. We can apply portfolio management principles to help investors manage their currency risks. I follow three simple rules that everyone should consider for their personal investments.
The first rule is to diversify. When it comes to currency, this means you should take money offshore. The South African Reserve Bank allows financial institutions to take up to 40% of retail investments abroad. We think this should be higher, so target 50% of your discretionary investments but have regard for your unique circumstances. Use your annual discretionary and investment allowances to buy dollars for this purpose—feeder funds give you offshore exposure but are not hard currency assets.
Secondly, apply rand cost averaging to mitigate the risk of extreme price points. With foreign exchange, this means taking money abroad regularly to achieve a blended exchange rate. South Africa has one of the world’s most volatile currencies. We often see panic buying of dollars when the rand blows out, with investors getting the worst possible exchange rate.
Over time, the rand has depreciated by 4–7% per annum against the US dollar. There is nothing in South Africa’s economic fundamentals that suggests this long-term trend should reverse. So, while you should avoid panic buying during currency blowouts, don’t otherwise be too cute with the exchange rates you achieve. In five or ten years’ time it won’t matter much whether you traded one month or the next. The important point will be that you did.
Finally, the third rule is to follow the first and second rules and then to relax. Stop trying to micromanage your investments. The rand is volatile, which means you may sometimes see negative rand returns from your offshore investments. If you followed the second rule, you would have achieved a fair exchange rate on your foreign investments and bouts of rand strength should be impermanent.